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Energy Security: Economics, Politics, Strategies, and Implications

Energy Security: Economics, Politics, Strategies, and Implications

by Carlos Pascual

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Energy security has become a top priority issue for the United States and countries around the globe, but what does the term "energy security" really mean? For many it is assuring the safe supply and transport of energy as a matter of national security. For others it is developing and moving toward sustainable and low-carbon energy sources to avoid environmental


Energy security has become a top priority issue for the United States and countries around the globe, but what does the term "energy security" really mean? For many it is assuring the safe supply and transport of energy as a matter of national security. For others it is developing and moving toward sustainable and low-carbon energy sources to avoid environmental catastrophe, while still others prioritize affordability and abundance of supply. The demand for energy has ramifications in every part of the globe—from growing demand in Asia, to the pursuit of reserves in Latin America and Africa, to the increased clout of energy-producing states such as Russia and Iran. Yet the fact remains that the vast majority of global energy production still comes from fossil fuels, and it will take a thorough understanding of the interrelationships of complex challenges—finite supply, environmental concerns, political and religious conflict, and economic volatility—to develop policies that will lead to true energy security. In E nergy Security, Brookings scholars present a realistic, cross-disciplinary look at the American and global quests for energy security within the context of these geopolitical, economic, and environmental challenges. For example, political analysts Pietro Nivola and Erin Carter wrap their arms around just what is means to be "energy independent" and whether that is an advisable or even feasible goal. Suzanne Maloney addresses "Energy Security in the Persian Gulf: Opportunities and Challenges," while economist Jason Bordoff and energy analyst Bryan Mignone trace the links between climate policies and energy-access policies. Carlos Pascual and his colleagues examine delicate geopolitical issues. Assuring long-term energy security remains one of the industrialized world's most pressing priorities, but steps in that direction have been controversial and often dangerous, and results thus far have been tenuous. In this insightful volume, Brookings assesses exactly what we're talking about, what it means in several contexts, and where we go from here.

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Energy Security

Economics, Politics, Strategies, and Implications

Brookings Institution Press

Copyright © 2009 Brookings Institution Press
All right reserved.

ISBN: 978-0-8157-6919-4

Chapter One

The Geopolitics of Energy From Security to Survival


Since the industrial revolution, the geopolitics of energy-who supplies and reliably secures energy at affordable prices-has been a driver of global prosperity and security. Over the coming decades, energy politics will determine the survival of life as we know it on our planet.

The political aspect of energy, linked to the sources of supply and demand, comes to public attention at moments of crisis. When unstable oil markets drive up prices and volatility hinders long-run investment planning, politicians hear their constituents protest. But energy politics have become yet more complex. Transportation systems, particularly in the United States, are largely reliant on oil, so disruption of oil markets can bring a great power to a standstill. Access to energy is critical to sustaining growth in China and India-to employ the hundreds of millions who remain poor and to keep pace with burgeoning populations. Failure to deliver on the hope of greater prosperity could unravel even authoritarian regimes-and even more so democratic ones-as populations become more educated and demanding.

Two of the major global energy consumers, the United States and the European Union, have similar needs but different practical perspectives on energy imports. The United States is overly dependent and focused on oil, with consequent special attention to the Middle East. The EU is highly reliant on imported gas, making Russia an important supplier and factor in the EU's energy policies and raising tensions particularly between Germany and the central European states. Before the onset of the 2008 financial crisis, rising demand for oil and gas imports and limited capacity to expand short-term supply drove up prices, supplier wealth, and producer leverage, allowing producers such as Russia, Venezuela and Iran to punch above their weight in regional and international politics. With the current slowdown in global demand from at least the traditional demand centers in Europe and the United States, lower oil prices have rattled the economies and politics of producer states that have come to depend on large export revenues to maintain stability at home and support muscular foreign policies abroad. That is especially poignant in countries like Iran and Venezuela, which highly subsidize social programs and fuel at the expense of economic growth and diversification.

Traditional geopolitical considerations have become even more complex with global climate change. The U.N. Intergovernmental Panel on Climate Change (IPCC) has documented that the use of fossil fuels is the principal cause of increases in atmospheric concentrations of greenhouse gases, which in turn are driving up the mean temperature of the planet. A changing global climate is already resulting in significant loss of glaciers and shrinkage of polar icepacks. It will lead to severe flooding in some places and drought in others, which will devastate many countries' food production, encourage the spread of various illnesses, and cause hundreds of thousands of deaths each year, particularly for those living in the developing world. Nearly 2 billion people were affected by weather-related disasters in the 1990s, and that rate may double in the next decade. At the same time as countries are competing for energy, they must radically change how they use and conserve energy. The politics of the debate over scrambling to secure hydrocarbon resources versus reducing consumption through efficiency and use of alternatives-particularly how to pay for the cost and dissemination of new technologies and how to compensate those who contribute little to climate change but will experience its most severe effects-is emerging as a new focal point in the geopolitics of energy.

Ironically, volatile oil and gas prices and the actions that must be taken to address climate change-namely, pricing carbon at a cost that will drive investment, new technology, and conservation to control its emission-will drive another existential threat: the risk of nuclear proliferation. Higher energy and carbon prices will make nuclear power a more attractive option in national energy strategies, and the more reliant that countries become on nuclear power, the more they will want to control the fuel cycle. The risk of breakout from civilian uses of nuclear power to weaponization will increase dramatically, as will the risk of materials and technology getting into the hands of terrorists.

Confronting these challenges requires an understanding of the fragility of international oil and gas markets and also of the nexus among energy security, climate change, and nuclear energy and proliferation. This chapter addresses that interconnection and the kinds of measures that will be needed to ensure a politically, economically, and environmentally sustainable energy strategy.

Shallow Markets, Sharp Politics

International economic and political developments can exacerbate the effects of inelastic supply and demand on global energy markets, causing massive price fluctuations even when the underlying nature of the market remains unchanged. Under such volatile conditions, political power has accrued in the hands of energy exporters, making it more difficult to gain consensus among net importers on international policies, such as deploying international peacekeeping forces to Darfur and imposing sanctions on Iran to gain leverage against the risk of nuclear weaponization. And price volatility has also exacerbated the impact of bad economic policies in energy-exporting states when revenues have collapsed during economic downturns-dealing a critical blow in the collapse of the Soviet state in 1991, for example. Over the long term, reducing market volatility serves the self-interest of both energy importers and exporters.

To frame this discussion, recall that the price of oil rose from $21 a barrel at the beginning of 2002 in the run-up to the Iraq war, to $29 at the start of hostilities on March 19, 2003, to $48 at the start of President Bush's second term in January 2005, to $145 in July 2008-an overall rise of over 400 percent. Prices then fell during the recession in late 2008, hovering at about $50 a barrel in the spring of 2009 with decreased consumer demand.

To change the dynamics of energy markets from instability to security, both importers and exporters must get beyond the cyclical price incentives that perpetuate the current structure of international oil and gas markets. For net importers, that will mean diversifying energy sources, with greater reliance on renewable energy and energy conservation. For exporters, that will mean internal economic diversification to reduce dependence on export revenues. Yet when energy prices are high, exporters have generally used revenues to consume more. When energy prices are low, the political will to tax energy to create incentives for conservation and innovation sharply diminish. The result, illustrated in figure 1-1, has been an almost tandem rise of international oil production and consumption, with the exception of a sharp drop in consumption in 1992-93 when the Soviet Union collapsed. Until political leaders break this mismatch in pricing and political incentives, the underlying structure of oil and gas markets will continue to undermine the long-term security interests of both importers and exporters.

Figure 1-2 illustrates the demand and supply factors behind oil price volatility. Bloc 1 in the chart represents the fastest-growing sources of demand for oil: the United States and China. Bloc 2 consists of Saudi Arabia, Russia, Iran, Iraq, Venezuela, Nigeria, and Kazakhstan. These are countries upon which oil importers de facto rely to meet short-term supply shortages. Bloc 3-Canada, the United Kingdom, Brazil, India, Japan, Norway, and Indonesia-shows other important drivers of supply or demand, most notably Japan and India, which rely massively on oil imports.

On the supply side, there is limited ability to expand production rapidly in the short term, and even long-term prospects are mixed. Figure 1-3 shows that in the past decade, Russia and Saudi Arabia have accounted for the largest increases in oil supply. Existing Russian fields are now producing at their peak, and Saudi Arabia has limited additional short-term capacity. Due to commercial disputes, local instability, or ideology, Russia, Venezuela, Iran, Nigeria, Mexico, and Iraq are not investing in new long-term production capacity.

Given limited supply elasticity, political volatility gets magnified through fluctuating and unpredictable prices. Key sources of instability include conflict in the Middle East, the risk of the Iraq war spilling into the Persian Gulf, the risk of U.S. and/or Israeli conflict with Iran over its nuclear program or over Iranian support for militias in Iraq, conflict in the Niger Delta, populist state controls in Iran and Venezuela, and the difficulty of securing major oil transport routes. Saudi Arabia pledged to increase oil production by 200,000 barrels a day of heavy sour crude at the Jeddah Summit on June 22, 2008, which was essentially offset by offshore attacks on Shell's $3.6 billion "Bonga" floating production, storage, and offloading vessel on June 19 by the Movement for the Emancipation of the Niger Delta (MEND), which, in combination with kidnappings of oil workers and sabotage of onshore pipeline infrastructure, kept between 600,000 and 900,000 barrels a day of Nigerian high-quality crude output off-line. Despite efforts to repair infrastructure, Nigeria-once Africa's largest oil producer-is, under these circumstances, being outpaced by Angola and branded an unreliable producer, thus underscoring the limits of energy security in a tight supply environment.

Political risk is exacerbated by choke points in transit routes. Nearly 40 percent of world oil exports pass through the Strait of Hormuz, nearly 28 percent through the Strait of Malacca, and nearly 7 percent through Bab el-Mandeb, the narrow strait connecting the Red Sea and the Gulf of Aden. Tehran's threats in 2007 to block the Strait of Hormuz if attacked over its nuclear program illustrates how several energy issues-oil transit, civilian nuclear energy use, and nuclear proliferation-can be intertwined in a volatile mix of international security and conflict. The difficulty of getting pirate attacks around the Horn of Africa under control, if they had occurred in 2008 rather than 2009, could have had disastrous impacts on energy prices when prices were already soaring. Yet in the context of a global recession in 2009, the price impact has been limited.

Supply-side fragility is accompanied by limited elasticity of oil demand in the short run, a result of the transportation sector's high level of reliance on gasoline and other petroleum-based motor fuels. Figure 1-4 illustrates how the United States and China have driven the largest share of rising oil demand since the mid-1990s. Change in this arena, such as switching to alternative fuels, requires long-term investments in technology and infrastructure. In the medium term, there are options such as increased use of hybrid cars that plug into the electricity grid. Ironically, the 2009 recession could further entrench the structural factors that could cause a return to increased demand for oil in both the United States and China. In the United States, a temporary spike in demand for hybrid vehicles in the summer of 2008 turned into an about 30 percent year-on-year reduction in demand in January 2009. That, together with the overall crippling of the auto industry, which has driven Chrysler to bankruptcy, has made it harder for automakers to finance the transition of their fleets. Beyond that, economic pressures to create jobs quickly will drive economic stimulus funds toward infrastructure investments, and those investments that can be made most quickly are based on highway transit.

Against those structural factors, the massive price swings seen from peak oil prices of $145 a barrel in the summer of 2008 to about $50 a barrel in the spring of 2009 are easier to understand, even if the precise inflection points in price trends are hard to predict. First, the subprime mortgage crisis drove investors from real estate to oil and other commodities. Speculative oil demand exacerbated tight and costly supply, pushing oil prices upward. When the U.S. financial crisis turned into a global economic recession by late 2008, the demand and price trends reversed. The International Monetary Fund estimates that global GDP will contract by 1.3 percent in 2009, affecting both industrialized and emerging economies. Demand for energy has contracted with global GDP, as has speculative investment in energy commodities. U.S. crude oil consumption is down by 1.45 million barrels a day, which is 6.8 percent less than last year, and crude stocks rose by 5 million barrels in December 2008, which is the largest gain since 1970. The result has been a reverse free fall down the price curve that brought energy to record highs in mid-2008.

Still, structural factors will likely drive an eventual price reversal. Falling prices have begun to curtail long-run investment in exploration and production (E&P) as more expensive projects are put on hold; that, in turn, will feed back into the long-run outlook. E&P planned under high oil prices to bring online more oil and gas to alleviate the tight supply market will not have taken place on the size and scale needed. While some international oil companies claim that they will stick to their investment plans, OPEC indicates that about thirty-five new projects could be on hold, cutting by about half the increases projected in global production capacity expected by 2014. As argued above, the recession constrains the capacity of the private sector to invest in massive restructuring in the short term to accelerate the transition to a less fossil fuel-intensive infrastructure base.

To get out of this cycle of volatility, then, national leaders will need to change the structure of energy markets and reduce dependence on both fossil fuels and fuel exports as a revenue source. That will require investments in conservation to reduce demand and to expand renewable sources of energy. Sustaining such investments will require consistent price signals to industry, investors, and consumers. And that will require national leaders to take actions that may have short-term financial and political costs. In the meantime, one of the costs paid is in U.S. national security due to the volatility to which we subject the economy and the power we transfer to energy suppliers willing to use their wealth in ways that complicate U.S. national interests.

Energy and Power Politics: Iran, Venezuela, and Russia

Iran, Venezuela, and Russia have had some of the most obvious political impacts on the realities of today's oil market. Their customers and investors have at times set aside their political concerns to preserve their commercial interests. All three countries have used their energy wealth and leverage to strengthen their regional influence with more vulnerable neighbors, and all three have used the stature that they have acquired through their regional interventions and wealth to complicate U.S. interests.

Iran is developing a nuclear program despite UN Security Council resolutions 1696, 1737, and 1747 demanding that Iran suspend the enrichment of uranium and fully discloses the nature of its nuclear program. When the International Atomic Energy Agency (IAEA) board of directors referred Iran to the UN Security Council (UNSC), countries from every part of the world opposed Iran's development of the capability to produce a nuclear weapon. Yet the country remains defiant.

In part, that may be out of the hope that Russia and China will block any serious sanctions, largely because of their commercial interests in Iran. China is moving into gas development projects in Iran, where Western companies are kept out by the sanctions regime. Both Russia and China have generally resisted using international sanctions to exert pressure on other countries, in part to serve their own commercial interests, in part to avoid precedents authorizing the UN to scrutinize sovereign decisions on national security. The National Intelligence Estimate (NIE) of 2007 found that Iran's nuclear weapons program had been suspended in 2003 and that it had not been restarted as of mid-2007. However, with indigenous civilian nuclear capacity and technical expertise, there is potential for breakout-although it is important to distinguish between aspirations for breakout and the ability to do so, given that building uranium enrichment and/or reprocessing capacity is far more complex than building a civilian nuclear reactor.


Excerpted from Energy Security Copyright © 2009 by Brookings Institution Press. Excerpted by permission.
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Meet the Author

Carlos Pascual, the U.S. ambassador to Mexico, served as vice president and director of the Foreign Policy Program at Brookings from 2006 to 2009. Before joining Brookings, he served with the U.S. Department of State and was U.S. ambassador to Ukraine, 2000–03. He also was special assistant to the president during the Clinton administration and worked with the National Security Council from 1995 to 2000.

Jonathan Elkind, who is now the principal deputy assistant secretary for policy and international energy at the U.S. Department of Energy, was a nonresident senior fellow in the Foreign Policy Program at Brookings from 2006 to 2009. An expert in energy security, the environment, Eastern Europe, and the former Soviet Union, he was on the National Security Council staff between 1998 and 2001. He also served in a variety of other government positions during the Clinton administration.

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